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With all the turmoil swirling around American International Group Inc., I wonder whether the company will become the new poster-child for corporate misconduct. An insurance company is built on trust, that the money given to them today (the float, as Warren Buffett discusses ad nauseam in his letters to shareholders of Berkshire Hathaway) will be invested wisely to pay off claims made in the future. At the moment at least, AIG has a triple A credit rating, but that can change in a hurry if damaging revelations of earnings manipulation take a turn toward falsified records or fraudulent reinsurance transactions designed to cover up potentially significant losses.

I hate to use the E word -- Enron -- but that company's energy trading division, which was its primary business unit, was also built on the trust of other market participants, and once serious questions about its survival arose, other companies simply refused to do business with it. On the Enron theme, another scary similarity for the two companies is their use of questionable off-shore entities to enhance their balance sheets: SPEs for Enron, and possibly captive reinsurers for AIG. The reinsurance companies that did business with AIG are located in "lightly regulated" jurisdictions, like Bermuda and the Cayman Islands, for reasons other than the nice weather and great beaches. A disturbing note in a Wall Street Journal story about former AIG CEO Maurice Greenberg (here) is that he refused to turn over documents related to two off-shore entities in which he has substantial involvement. The inquiry into the off-shore entities is a definite wild card for AIG, and it is hard to predict what will be revealed.

Is AIG going to end up like Enron? I doubt it, because Enron (and WorldCom) had flawed business models, and at this point there does not appear to be the same problem at AIG. A different parallel may be to HealthSouth, at least as that company has been portrayed by the government in the prosecution of Richard Scrushy with its cabal of senior executives manipulating the books every quarter for years. A third senior AIG executive, Michael Murphy, has not been cooperative in the company's internal investigation, and another Wall Street Journal story (here) portrays his deep involvement in Bermudan tax and reinsurance affairs for both the company and Bermuda. If Murphy asserts the Fifth Amendment -- and he's definitely a candidate for it -- then he will be the third senior executive to refuse to cooperate. If more AIG executives refuse to cooperate with investigators, it begins to look like there was significant involvement among the top levels of the company in criminal conduct. If there is a plea agreement involving a senior AIG executive, that will likely mark a significant turning point in the investigation and increase the pressure on the company.

What are the potential problems that could threaten the company in the near future? Here are two possibilities: first, if there is evidence of document destruction or falsified records, then the case turns from an accounting inquiry into an obstruction of justice case. While the Arthur Andersen effect -- the destruction of a viable business by a criminal conviction -- is one that will slow down prosecutors in deciding to charge the company, AIG already has one criminal strike against it from its plea deal last December (earlier post here). Prosecutors are already wary of the company, and a lack of cooperation by senior executives coupled with any possible document destruction might push it toward a criminal indictment. Second, insurance companies have to be licensed in every state (and the District of Columbia) in which they operate, so AIG is subject to as many as 51 state regulators. Insurance commissioners and state AGs beyond just N.Y. Attorney General Eliot Spitzer may take action against the company, and losing its license in a significant number of states could affect its domestic operations. Add to that potential foreign regulatory actions, and AIG could be subject to the proverbial thousand cuts.

AIG is an important company, not only in the insurance market but also for investors. It is one of the thirty companies in the Dow Jones Industrial Average, and the gyration of its stock (it is down over 20% since the first set of subpoenas came to light in February) affects a significant number of investors. If the investigations are limited to more technical accounting matters, involving such interesting topics as whether to consolidate the results of a subsidiary on the parent's financial statements and the proper accounting for reinsurance contracts, then I think AIG will come through without too much damage. If the case turns into one involving fraudulent transactions and bogus agreements, the effect will be much greater. If there is obstruction of justice, than in another future case the question will be whether a company is "the next AIG." (ph)